6 Things To Know About This Week’s CBO Report

The CBO’s baseline scenario shows federal debt held by the public rocketing upward at a trajectory not seen since 2009, but this time on a sustained basis and breaching 150% of GDP by 2048. Here’s the chart:

In case GDP percentages are too abstract for you, we can translate into something more meaningful. Using the CBO’s own population and inflation figures, we convert the projections to dollar amounts per capita (in constant 2018 $), and then with figures from usdebtclock.org, we estimate dollar amounts per taxpayer. Here’s the adjusted chart:

But the baseline scenario is two tads optimistic. First, it assumes the elimination of scores of tax breaks that in real life Congress extends every year-end, routinely, as if mailing the annual holiday cards. Second, the baseline-scenario economy runs more smoothly than Justify—labor productivity growth rises by over half a percent from the 1% pace of the last 12 years, and the average unemployment rate over the next 30 years drops to an all-time record low of 4.6%. (The lowest 30-year average on record is 5.1% from 1948 to 1977, and that result was weighed down by conscription during the Korean and Vietnam Wars.) Here’s a chart showing just how optimistic the CBO is with regard to the unemployment rate:

If we construct an alternative scenario to allow the usual legislative “fixes,” while adding a moderate recession to the otherwise pristine economic outlook, we find that debt increases almost 50% faster than shown in the baseline. (You can find our analysis here.) For example, instead of breaching $200K per taxpayer in 2034 as in the chart above, debt breaches $200K per taxpayer as early as 2028. This won’t surprise our regular readers, since we’ve been producing our alternative debt scenario for six years now. But this time we have company—our scenario shows nearly the same 2028 estimates as the “business as usual” and “recession” scenarios produced recently by Goldman Sachs and summarized in this report by ZeroHedge (recommended).

The CBO is increasingly warning of a potential fiscal crisis, as shown in the next chart. We extrapolated the chart’s upward trend (layering a projection on a projection) and reached a conclusion that in 2047 the CBO will rename its annual budget report The Coming Fiscal Crisis, and by 2059 it’ll be distributed by the Office of Financial Crises (OFC).

As a reminder of what “debt held by the public” means, all figures mentioned above exclude the roughly $5 trillion that the government owes the Social Security and Medicare trust funds and various employee retirement funds (intragovernmental debt). Congress justifies excluding these liabilities by pointing out that it can eliminate them with the stroke of a pen—it would only need to enact legislation saying it doesn’t really have to pay these amounts. Of course, politicians remind us all the time that they’re desperate to take away our Social Security and Medicare benefits—especially when they’re on the campaign trail—so their justification is totally consistent.

Another Fun Fact

If we add intragovernmental debt to our alternative scenario to project “gross” debt, it shows debt per taxpayer breaching $200K twice as quickly—in 2023—at which time the debt-to-GDP ratio would be 120%. That figure ties into research we conducted a few years ago using hundreds of years of data maintained by Harvard’s Kenneth Rogoff and Carmen Reinhart, along with about twenty other data sources. We found that no country has ever reduced its debt-to-GDP ratio from over 120% to under 90% without either 1) haircutting its creditors in a restructuring or outright default, 2) achieving a budget surplus over the debt reduction period, and not just a primary surplus but an honest to-goodness surplus of the type America has only seen twice in the last 57 years or 3) both.

In other words, the popular belief that public debt can be “inflated away” fails to explain how debt problems were resolved through history. Generally, financial repression was more powerful than inflation (without repression, inflation drives up interest costs, sometimes worsening debt ratios), but neither has solved a severe debt problem without a more important role being played by payment adjustments, fierce fiscal discipline or both. (For details of every episode of gross debt exceeding America’s current total of about 105% of GDP, see our book Economics for Independent Thinkers.)

A Final Fun Fact

When the CBO evaluated its forecasting accuracy in 2015, it found that its projections for government revenues for five years into the future were 5.3% higher than actual outcomes, on average, over 28 years of forecasting. It attributed the big forecasting errors mostly to “the difficulty of predicting when economic downturns will occur,” while noting that the largest errors occurred at business-cycle peaks.

In other words, like everyone else, the CBO becomes overly optimistic as economic expansions age. (We’re all human, right?) Having discovered this bias, you might have expected to see upward adjustments to the unemployment rate projections, the unemployment rate being one of the biggest revenue drivers and a budget-killer in recessions. But after checking the full forecasting history for the unemployment rate, we found that:

The projected 30-year average of 4.6% (shown in the chart above) is the lowest ever

The projected endpoint of 4.7% (for years 2037 to 2048) is also the lowest ever

Both of those figures are significantly below corresponding figures from 2015 (5.3% for both the average and the endpoint), when the CBO revealed its optimistic forecasting bias.

So much for learning from your mistakes. When it comes to unemployment, this is the most optimistic outlook ever, and yet it still results in federal debt exploding higher.

DANIEL NEVINS, CFA, has invested professionally for thirty years, including more than a decade at both J.P. Morgan and SEI Investments. He is perhaps best known for his behavioral economics research, which was included in the curriculum for the Chartered Financial Analyst® program and earned him recognition as one of the founders of goals-based investing. He has an economics degree from the Wharton School of Business and a degree from the University of Pennsylvania’s engineering school.blank text blank text blank text blank text blank text blank text blank text blank text blank text

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